JJ Jelincic: CalPERS’ New Private Equity Model – What’s the Payoff?

By JJ Jelincic, a former CalPERS board member

“CalPERS Direct” is a misleading working title for a new company with its own independent board that will create two other new companies with their own board and allocate trust money to them. The plan does NOT envision California Public Employees’ Retirement System (CalPERS or System) doing any direct private equity investing. These two subsidiary companies will act as private equity general partners. Staff has even admitted that what it presented as a new model is just like the way it invests in private equity now…..except it will be paying the costs and risks of putting new firms in business with no additional upside and less transparency to beneficiaries and the public.

The CalPERS staff is hell-bent on a path to create a new entity, beyond the control of the Board of Administration to manage private equity investments. Staff has stated a need to move quickly before the opportunity disappears. Perhaps private equity as an asset class will go away.

People and institutions do things for a reason. They do not act irrationally. That is not to say they do not make mistakes or act on bad information or bad assumptions. If conduct appears to be inconsistent with the explanation(s) offered it would suggest a hidden motive.

The explanations vary. The purpose, depending on the presentation is: to cut costs; to increase returns; to get more invested in private equity; remove the program beyond the control of the trustees; remove disclosure requirements. Other times it is that the CalPERS staff is incompetent and cannot analyze individual companies.

Top1000 Funds.com has reported that the CalPERS staff has spent 3 years of intensive review an analysis to develop a new approach to private equity. It can only assume that reporter Sarah Rundell got that information from CalPERS. Clearly staff did extensive travel while developing this plan. If it did any analysis it has not shared that information publicly and there is no indication that any such analysis has been shared with the CalPERS Board. Assertion yes; analysis no.


Investing in private equity is a very expensive. The industry likes to focus on the management fees and carry, the proverbial 2 and 20. Charging 2% of the investment as an annual fee and then taking a fifth of the profits is a very heavy thumb on the scale, and that’s before you get to hidden fees and costs that the private equity funds take directly from the companies that they’ve invested in. These include “monitoring” fees, transaction fees, acquisition and disposition costs, broken deal fees, finder fees, indemnification costs, litigation costs, partner meeting expenses, consultants charged to the portfolio companies, and travel expenses (typically private planes). And there are hidden fees charged to the overall fund: custodian costs, administrative fees, legal and other costs of creating the fund, fund raising costs, accounting fees, office expenses for the general partner.

The academic community thinks the real total cost for private equity is about 7% per year and CalPERS confirmed that as a reasonable estimate in a 2015 workshop.

There is no available information on what the new company will charge for management fees. However, since a general partner’s largest expense is compensation and there is a stated intent to pay full market compensation, there seems to be little reason to expect significantly lower fees. So even if CalPERS claims it has lowered or even eliminated the management fee, the general partners are likely to make sure they get the same overall income they would otherwise, and will simply charge higher fees directly to the companies and/or the funds that they control.

The CalPERS staff has acknowledged that it doesn’t know what the real CalPERS costs are. They have also publicly acknowledged that the General Partners can charge anything that is not forbidden and can be bill at an inflated rate. It is hard to explain how you are going to save costs if you don’t know what your current costs are. CalPERS has not explained how any of these costs disappear. Presumably fund raising expenses would be eliminated but that is fairly minor. If you have the same essential costs of doing business it is unclear where the alleged savings comes from.

The California Public Employees’ Retirement Fund (PERF) exists to pay pension benefits. There are only four ways cash comes into the fund: employee contributions, employer contributions, investment income and investment realizations. There are four ways cash leaves the system: pension benefits, system costs, investment purchases and external fees. “CalPERS Direct” does not change those facts.

“CalPERS Direct” does not eliminate the middle man. It offers no clear plan for cutting costs. Where is the payoff coming from? ? Where is the payoff going?


Clearly returns are important. Modern Portfolio Theory is based on the fact that in the short run the possible range of expected outcomes (volatility) is very wide. In the long run, which is what a pension plan needs to be concerned about, higher returns require higher risks. Improved net returns that are derived from cost savings have the advantage of being both repeatable and guaranteed. There is nothing in the proposal that explains how increased returns will be generated. Yes it has been asserted but it has not been explained. Since there have been no identified cost reductions the clear implication is that the higher returns will come from more risk.

This begs the question “is the System being rewarded for the risks it is taking?” The answer is unknown. While the industry (and the CalPERS staff) keeps pointing to high reported returns they never claim higher risk adjusted returns. If you do not know what risks you are taking you cannot risk adjust your returns. The CalPERS experience is that the program fails to match the benchmark of expected returns. The response has been to set a lower benchmark. That doesn’t really solve the risk/return problem. The majority of academic work, not sponsored by the industry, suggests that private equity investors are not getting well compensated on a risk adjusted basis.

No clear payoff for the System from higher net returns.

Trustee Control

California Government Code § 20171:

The board has the exclusive control of the administration and investment of the retirement fund.

California Government Code § 20190:

The Board has exclusive control of the investment of the retirement fund.

The members of Board of Administration are the named fiduciaries for the system. They have the responsibility for the administration of the system and the investment of the PERF. They can and have delegated the authority to staff. They have also given staff the authority to further delegate that authority to others. While the Board can delegate its authority it cannot delegate its responsibility.

It has been said that private equity deals come together too fast for the Board to be involved. Staff already has the authority to make a $1 billion commitment (recently reduced from $3.3 billion at staff’s request) and only inform the Board after the fact. While funds are larger than that few actual deals exceed $1 billion equity commitments. It is inconceivable that a reasonable deal larger than would come together in less than a month. It should be noted that the Board can meet on ten days notice, three in an emergency.

It was not until October 2, 2018 when Priya Mathur, speaking at the Top1000funds.com Fiduciary Investor Symposium, disclosed the previously confidential information that  the new company “would not necessarily be owned by us” that the extent of the intended fiduciary abdication became clear.

There is no clear payoff to the beneficiaries from putting the trust assets beyond the control of the Board. Who gains?


The private equity industry is not a big fan of transparency. One can only guess why it fears public disclosure of its actions. It could have something to do with Andrew J. Bowden’s, Director, Office of Compliance Inspections and Examinations, May 2014 speech in which he said:

When we have examined how fees and expenses are handled by advisers to private equity funds, we have identified what we believe are violations of law or material weaknesses in controls over 50% of the time.

When John Chiang, the California State Treasurer, was sponsoring AB 2833 to increase the transparency of private equity fees, the CalPERS staff was working in the background to weaken the bill. It wanted the bill to reflect the then current practices. It was that low level of transparency that created the need for the bill. It is interesting to note that the industry did not lobby on the bill at all. Clearly they felt that their message and concerns were being transmitted to the legislature by others.

When it was suggested that CalPERS adopt a policy that it would not enter into any new private equity agreements unless the general partner agree to disclose all the types of fee it would charge. the CalPERS staff argued against it. They claimed that if the System insisted on knowing, not even the amount, but the types of fees it would be charged the industry would refuse to accept the billions CalPERS had and wanted to invest. Staff was persuasive enough that the proposal died for lack of a second.

It is unclear how the beneficiaries are well served by dealing with firms that will not even let the System know the types of fees it would be charged.

It is not clear what role the CalPERS Board will have with the ”CalPERS Direct” other than creating it and sending it money. Who will appoint the board of this wholly owned company? Who will select the staff? What will the compensation look like? There seems to be no need for the beneficiaries or the Trustees to worry about where the trust fund assets are going.

By setting up a separate non-governmental company beyond the control of the trustees a lot of disclosure might disappear. CalPERS would still have to disclose what it paid directly to the firm “CalPERS Direct” but it would no longer need to report any of the underlying costs. There has been no public discussion that this is a scheme to avoid disclosure. It could avoid pesky disclosures like conflicts of interest, Form 700s, fees, salary and bonus disclosures. Is the move away from transparency even legal? It should be noted that Centerpoint Properties is wholly owned by CalPERS. Yet Bob Chapman, CEO, and Jim Clewlow, Chief Investment Officer, do not file Statements of Economic Interest. Does this structure avoid revolving door problems? If not, how would it be monitored and enforced without reporting? Could that be the goal?

There may be value in not disclosing anticipated specific investments but there is no value in hiding from the beneficiaries costs already incurred and investments already made. No one can “front run” an investment after it has been made.

Are shadows and secrecy the payoff? Who gains? Where is the payoff for the trust fund and the beneficiaries?

Getting More Invested

The CalPERS staff has asserted that unless the system adopts the new model it will not be able to get enough invested in private equity to meet its allocation targets. If the system is not being rewarded for the risk it is taking then that is be a good thing. Moreover, look at the current situation. CalPERS holds about $27 billion in private equity. CalPERS has over $14 billion in unfunded commitments, $6 billion of which is committed to the system’s largest managers. There is simply too much money chasing too few good opportunities. The industry is currently paying historical high acquisition prices and accepting the lower returns. Even then it cannot invest the currently available funds. If our largest managers cannot find opportunities why should we expect the new startup to do so?

If the goal is to get more invested then the way to do that is outbid others and to pay up even more. If our current managers will not do so, presumably because of the impact on their riskless profit participation, why should the system?

No clear risk adjusted payoff from getting more invested.


Another argument for creating a new firm is that state employees lack the ability to do the work. At the June 2018 Investment Committee Ted Eliopoulos, the CalPERS Chief Investment Officer said of his staff:

And as has been mentioned a few times now, the capabilities to undertake a co-investment and secondary investment program at scale requires a different underwriting capability than selecting general partners. The ability to underwrite and invest in an individual portfolio company, or a whole portfolio of portfolio companies is quite different skill set experience set than underwriting the capabilities of a general partner. So accessing some new talent and expertise in that area is really necessary for us to put billions of dollars into these categories going forward.

While I will not question Eliopoulos’ lack of ability, I would point out that most CFAs and MBAs on the investment staff can analyze a company. The fixed income staff runs a successful program that calls for just that skill. Even if Mr. Eliopoulos is right about his current staff (although there is no proof of the point) the state can clearly hire the skill set. It may require higher salaries but the whole proposal assumes that the new venture will pay market salaries. I would also point out that the System already pays for those skill sets in the form of fees paid to external managers and general partners. This proposal is just less transparent and controllable.

There is no disagreement that if you hire the needed skill sets and bring the investment process in house you can both increase the alignment of interest and reduce costs. Both of which would lead to increased performance. Yet that option is being rejected out of hand. “It just can’t be done. We can’t hire the skills.  We can’t pay the salaries.” The System currently pays the salaries just on a cost plus basis through the back non-transparent door. They are buried in the fees.

Six months ago it was impossible to pay an employee a million dollars. Now it is. What changed? CalPERS looked at the cost of not paying competitively. Alternatively, CalPERS could simply call the position(s) Head Coach (Investments) and then it could pay whatever compensation was needed and no one would complain. After all, successful coaches are paid more than doctors.


This is not ready for prime time. The proffered reasons do not support taking the action. So what is driving it and keeping it alive? What is the payoff and who collects? Is putting trust money down a black hole reasonable? The Board may know a lot more than it is letting on but is this the action of a prudent person knowledgeable about such matters? 

Waist deep (or deeper) in the Big Muddy. The big old fool says to push on.

  • Can’t offer any rationale but push on.
  • No Board approval but push on.
  • The Attorney General won’t declare the scheme legal but push on.
  • Board consultant kept away from details but push on.
  • Fiduciary Counsel kept in the dark but push on.
  • Contract out permanent state work but push on.
  • Scheme makes outsourcing permanent but push on.
  • Interview future billionaires and push on.
  • Silence is consent as the staff pushes on.
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  1. none

    If conduct appears to be inconsistent with the explanation(s) offered it would suggest a hidden motive.

    Is any explanation needed? Whenever there’s a big pile of money in one place, the Grifter’s Prime Directive is to figure out how to get their hands around it. Bigger piles require more elaborate methods. CalPERS is large indeed, so we should expect about what we see. Of course the big kahuna is the Social Security Trust Fund, thus the decades of effort to turn it over to Wall Street going back at least to the Bill Clinton administration. This is more of the same.

  2. vlade

    This sort of analysis is (up to Disclosure), at the absolute minimun, what I’d expect to be given to the board.

    It’s a shame JJ is out, but the two new board memebers should pay attention. How many board members does it take to comission a truly independent study into this? (assuming an independent study can be comissioned). Not a woofy aspirtional powepoint, but a real facts and comparisons.

  3. Clive

    Cakeism is obviously contagious, CalPERS have been bitten by the bug.

    I, like JJ, can’t reconcile what CalPERS seeks to gain from this bizarre arrangement. Anyone who’s got a 401(k) — or, indeed, ever made any investment of any sort — inevitably has some degree of hand-offs. This applies to the CalPERS board — they can’t be everywhere and watch everything. Similarly, for a 401(k) or similar, you have to either try to find a decent fund manager or, if you’re self managing, reconcile yourself to a tax on your time to do the, well, management. Hence the delegation of responsibility to staff.

    But nowhere in any of that does anyone get to wriggle out of some unavoidable responsibilities. Namely:

    Monitor investment performance. You have to be satisfied that management which has had responsibility delegated to it are operating effectively, efficiently and they are following whatever strategy or strategies you’ve determined they should be following in terms of investment.

    Intervening when required. If as a result of your monitoring you find things aren’t being done to your liking, you have to act on your concerns.

    Voting. Most decision points have several options with different trade-offs. So, from time to time, there’s a vote. You need to not only cast your vote, but you need to work out on what basis you’ll vote for any of the available options.

    Evaluating. You, as an investor, need data, reporting, dialogue and analysis. You need this provided so you can tell what’s happening to your funds under management.

    So what the heck does this ridiculous arrangement bring to the party? The enemy of trying to do any of the above responsibilities is a diffuse, ambiguous and latent arrangement between those ultimately responsible for the performance of a fund (i.e. the CalPERS board) and those who are trusted with the delegated responsibility to ensure the performance overall is what is expected and the investment strategy is being adhered to. But this is precisely what the so-called “Direct” arrangement entails. It is Orwellian in its newspeak. There’s nothing “direct” about it. It should be called “CalPERS In-direct”.

    Most corporations — blimey, even my hopeless TBTF gets this — appreciate that administrative bloat and multiple management layers are not only inefficient, they reduce C-level (and Board) control. They get in the way of oversight. They stymie effective control and the flow of information. What, then could possibly be the motivation for CalPERS to initiate such a structure?

    Hmm. I think I’ve answered my own question, there.

    1. vlade

      Oooh.. I think the CalPERS Direct is the second referendum equivalent?

      You don’t want to make the decisions (or at least be seen to), so you shift it somewhere else? In this case, the advantage is it’s also less transparent? What’s not to like?

      If it performs well, you can claim it was your briliant idea, if it performs poorly, it gives you to blame the people who staffed it, or even, *gasp*, when things get really ugly, cut it off with one go (those aren’t proper CalPERS people like us, after all)

    2. TheCatSaid

      from the section above Voting:

      You need to not only cast your vote, but you need to work out on what basis you’ll vote for any of the available options.

      It’s crucial to also play a role in determining exactly what the stated “options” will be”. It’s in this critical step of framing that much power resides.

  4. Tom

    The focus should be on understanding (and then removing) the obstacles that get in the way of CalPERS doing what a growing cohort of its peers are doing: a) moving talent in-house; b) collaborating with peers on mutualized intermediaries using corporate board structures.

    From what I understand, some of the obstacles are:
    – legal counsel advising that System staff can’t have a dual fiduciary role (i.e. as a company director and as a System employee). This also stops staff from being able to sit on the Boards of portfolio companies.
    – limits on compensation (though maybe this is less of an issue now, if the System can pay $1m now?)
    – a risk-avoidance corporate culture (which scares people off of doing new things AND scares new talent away from taking roles in the System)
    – too much politics in the investment process. E.g. a few years ago the State gov’t debated excluding investments in … Arizona! (card-check laws); also … And currently, System staff can’t make “discretionary” trips to … Texas! (bathroom laws). Madness.
    – a siloed investment staff, which is what you get from the asset-class-based asset allocation model: should move to a risk factor model (like ATP and CPPIB) and whole-of-fund “best ideas” SAA (like NZSF and FutureFund).

    Pension and sovereign funds are at the very top of the capital markets hierarchy. They need to be the best governed and best (not most) staffed institutions. Otherwise the agents game the system (and System).

  5. Richard H Caldwell

    A culture of willful, runaway waywardness? The only workable solution is for the legislature to:

    1.) fire the current board, every one;
    2.) fire the entire C level of staff (maybe more…);
    3.) appoint a fearless and credible receiver to oversee a reconstruction of board and staff under a clarified and renewed mandate.

    I’ve listened to CALPERS stories long enough to understand that the culture is corrupted, and that it is time to cleanse the Augean stable. The only question is how far down in the org. to wield the axe.

  6. The Rev Kev

    J.J. Jelinic is to be congratulated for putting together such a good piece of well laid out analysis. OK, I will have a go at trying to work out what CalPERS is up to. I’m going in. I am inspired here by the words of Sherlock Holmes where he said: “Once you eliminate the impossible, whatever remains, no matter how improbable, must be the truth.” Now all the pressure to get these hokey entities up and running is coming from the CalPERS staff and there is a scene of urgency to it. There appears to be no internal pressure forcing this issue so likely it is coming from an external source. The only thing that comes to mind is that if it was thought that the wheels of the general economy were going to come off, then this would explain the urgency as if things did come unstuck, then there would be zero chance of these entities being launched.

    Jelinic has stated that Californian law says that you cannot delegate responsibility and accountability. If these entities were set up, then all accountability of the board would go out the window. On an organizational chart there may be no planned lines of authority between CalPERS and the entities but you can be damn sure that there would be a lot of personal back channels set up that would not appear on any chart. This is just begging to have a set of financial kick-backs arise. And who exactly would these entities be staffed by exactly? No idea comes the firm reply. Some bright kids on the block maybe? If that was my pension involved, I would want it to be hoary old financial combat vets. People who got their start selling and buying stocks under the buttonwood tree at the bottom of Wall Street.

    I like the bit where Jelinic mentioned that “Clearly staff did extensive travel while developing this plan”. Yeah, I bet they did. In places like Florida, Hawaii, the Bahamas, etc. Very taxing work that. I have to admit that other quotes here can drive you to distraction such as “The CalPERS staff has acknowledged that it doesn’t know what the real CalPERS costs are”. The solution is simple. Sack them and hire people that can do their jobs. If industry refuses to accept the billions CalPERS has and wants to invest because they do not want to disclose all the types of fee it would charge then fine, then they can get to b****** and CalPERS can take their money elsewhere. And there is a need in ” creating a new firm is that state employees (due to) lack the ability to do the work”? That’s OK. Sack them to and hire people that can do it. I learnt a long time ago that in life if you can’t do the job, then you shouldn’t be doing it.

  7. Chris Tobe

    JJ is on point as usual. Too bad he is no longer a trustee. We need real independent expert trustees like JJ on every pension board

    1. False Solace

      Agreed. God bless JJ and people like him. I know from the experience of a close family member how difficult (and rewarding) it can be to do what’s right regardless of what one’s peers or career interests may say.

      Tiger, one day you will come to a fork in the road and you’re going to have to make a decision about which direction you want to go. He raised his hand and pointed. “If you go that way you can be somebody. You will have to make compromises and you will have to turn your back on your friends. But you will be a member of the club and you will get promoted and you will get good assignments.” Then Boyd raised his other hand and pointed in another direction. “Or you can go that way and you can do something – something for your country and for your Air Force and for yourself. If you decide you want to do something, you may not get promoted and you may not get the good assignments and you certainly will not be a favorite of your superiors. But you won’t have to compromise yourself. You will be true to your friends and to yourself. And your work might make a difference. To be somebody or to do something. In life there is often a roll call. That’s when you will have to make a decision. To be or to do? Which way will you go? – John Boyd

      People who make a difference in a dysfunctional organization end up paying the price. They will never be thanked enough to make up for what they lost, but they matter. They’re the reason society works at all. And on the plus side, they get to keep their souls.

  8. Watt4Bob

    I wonder if their plan is to position themselves to profit from the coming crash.

    The CalPERS staff is hell-bent on a path to create a new entity, beyond the control of the Board of Administration to manage private equity investments. Staff has stated a need to move quickly before the opportunity disappears.

    Which would indicate that someone thinks there is a crash coming.

    I’ve always heard that “when there’s blood in the streets, buy!”.

    Of course the shadowy people who’ve convinced the staff to ‘get ready’ probably really mean ‘bend over’.

  9. Retired

    This is a bad deal that’s going to cost CalPERS more money not less. JJ was the only investment professional on the board and is the only one asking the right questions.

  10. Brian (another one they call)

    It appears we need JJ on the board now. His reasoning is plain and clear, something quite different than what CalPers itself uses. California should recognize the importance of someone that knows what is actually happening and wants to prevent the losses being projected by the current board’s trip into fantasy land.
    Thank you for such a straighforward look at the matter.

  11. David in Santa Cruz

    JJ is being too nice. Let me say what he won’t. This is nothing but a naked money-grab by Sacramento politicians and their cronies at CalPERS.

    The California political establishment needed a new ATM after the Military-Industrial Complex pulled-out of the state during the 1990’s and the voters simultaneously imposed draconian term limits on elected officials. The political class was desperate for funding like never before, and CalPERS was “just sitting” on hundreds of billions of dollars, right in Sacramento.

    Their first attempt at turning CalPERS into an ATM blew-up spectacularly when the SEC decided that the lobbyists acting as “Placement Agents” for politically-connected investment managers were unregistered broker-dealers, and the then-CEO got caught committing fraud in order to sustain one of them. They both got indicted, but others were able to slink away in the night and restructure the ATM.

    Certain CalPERS staff and board members appear to have spent the past seven years trying to figure-out how to keep money flowing to the governors, attorneys general, and legislature — disguised as fees to investment managers willing to make millions in campaign contributions to term-limited politicals desperate for cash to sustain the leap from lily pad to lily pad. It’s a lot of work, and the Chief Investment Officer got tired of doing it. He came up with this Orwellian scheme and walked away, confident that the politically-captured Board would adopt it before a replacement CIO might show up and have to answer embarrassing questions.

    Fortunately, public controversies surrounding the “useful idiots” hired as CEO and CFO unintentionally drew unwanted attention to these machinations. If readers don’t realize that this is the genesis of this hare-brained scheme to give away billions held in trust for government workers and retirees to an unaccountable outside manager for no good investment reason, you don’t know how Sacramento works.

    Follow the money…

    1. JCC

      Good comment, explains why multiple requests on my part to the Governor’s Office to weigh in on what is going on with CalPERS have been completely ignored.

  12. flora

    If conduct appears to be inconsistent with the explanation(s) offered it would suggest a hidden motive.

    Yes, yes it would suggest that.

    I could imagine one motive might be a neoliberal drive to privatize CalPERS, one step at a time. I can imagine rewriting the opening sentence in this excellent post thus:

    ““CalPERS Direct” is a misleading working title [to hide the privatization scheme’s real goal] for a new company with its own independent board that will create two other new companies with their own board and allocate trust money to them.”

    This post lays out all the economic and fiduciary reasons to scrap this plan.
    There’s no reasoning with the majority of the current board, it seems.

    Thanks to JJ Jelincic for pointing out all the pitfalls and doesn’t-pass-the-common-sense-test “features” of CalPERS new scheme plan.

    Thanks to NC for your continued reporting on CalPERS, PE, and pensions.

  13. TheCatSaid

    Graft is one obvious possible motivation (e.g., great jobs for Friends of Marcie, Friends of Politician X, Friends of New Company Seeking Investment Y, etc.)

    Another one is money laundering.

  14. EoH

    This proposal will increase costs and decrease transparency, but not reduce CalPERS or its board’s responsibility. That’s the opposite of prudent investing. It’s a ticket to an expensive mess and considerably enhanced liability for CalPERS’s board and its staff.

    Whoever gets the upside from this disaster waiting to happen, it won’t be CalPERS, its beneficiaries, or California taxpayers.

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